Stocks Sell Off Globally; Investors Worry What's Next in Euro Zone

By

Matt Jarzemsky and

Christopher Dieterich

Updated March 25, 2013 4:23 p.m. ET

NEW YORK—Global financial markets were roiled Monday after conflicting comments from a senior European financial official sparked worry that the deal to rescue Cyprus could set a precedent for future bailouts.

The Dow Jones Industrial Average dropped 64.28 points, or 0.4%, to close at 14447.75. The blue chips changed course after climbing as much as 52 points shortly after the opening bell, their biggest reversal in a month. The S&P 500, meanwhile, came within a point during intraday trade of its all-time closing high of 1565.15, hit in October 2007, before slipping into the red.

Initially, investors were concerned that the measures to impose losses on bondholders and some depositors in Cyprus could be repeated in larger European countries. Early Monday, Eurogroup head Jeroen Dijsselbloem said the bailout could serve as a template for dealing with future problems with the region's banks, according to some media reports.

ENLARGE

Cyprus banks still were closed Monday. Stocks sold off globally as investors digested an aid package for the distressed euro-zone country.
Reuters

In the Markets

Later, though, Mr. Dijsselbloem backed away from these comments. "Cyprus is a specific case with exceptional challenges," he said in an official statement distributed on Twitter. "Macroeconomic adjustment programs are tailor-made to the situation of the country concerned and no models or templates are used."

U.S. stocks pared losses after the statement was released. At one point, the Dow was down as much as 117 points on the day.

Investors were focused on whether the Cyprus bailout might serve as a blueprint for future aid packages. The deal provides 10 billion euros ($13 billion) in financing for Cyprus, and imposes losses on bank deposits of more than EUR100,000 in the country's largest banks.

"Bank deposits are now a legitimate target--it just seems like anything that was positive quickly turned into more questions, more doubts,' said Colin Devlin, a director and equity trader at Knight Capital.KCG-5.60%

As well, holders of the banks' senior bonds, which many investors have assumed would be safe from losses, may also lose money. While those losses are relatively small – Cypriot banks have only about 200 million euros in senior bonds outstanding- investors worry that such a scenario could be repeated should Italy or Spain run into trouble.

"Today's back and forth in the market has do with whether this sets a precedent for other bailouts, or is a one-off," said Wasif Latif, vice president of equity investments at USAA Investments in San Antonio. His firm manages $54 billion.

In Europe, shares of banks, particularly those based in the region's weaker countries, were among the hardest hit. U.S. bank stocks held up relatively better.

Cyprus' struggle to secure international assistance in rescuing its financial sector has brought the euro area's debt saga back to center stage. The country secured an aid package early Monday, but at a steep cost, breaking a taboo by agreeing to tax depositors' holdings and hit another group that has generally been spared financial-crisis pain: senior bank bondholders.

Many regard Cyprus' economic importance as negligible, but see the precedents of dipping into savers' assets and haircutting bank bondholders as more serious, said Dan Morris, a London-based global market strategist at J.P. Morgan Chase'sJPM-0.74% asset management division, which oversees $1.4 trillion in assets.

"If this is a new template for dealing with banking problems in the E.U.," Mr. Morris said. Such an outcome potentially makes European banks "a less-attractive and riskier investment," Mr. Morris said.

U.S. stocks also traded lower, reversing the Standard & Poor's 500-stock index's morning climb toward an all-time closing high. But American financial shares were spared the heavy selling seen in parts of Europe. The S&P 500 declined 0.3%, and financial shares in the index dropped in line with the broader group.

"This particular risk is primarily European," said Mr. Morris. He said he sees the selloff tied to the latest drama in Cyprus as an "overreaction" and has been counseling clients not to see it as indicating a major change in the market's direction.

The selling comes as steep gains so far this year have left many investors wondering if the market is due for a pullback.

"Market participants remain largely bullish and somewhat crowded," Arvin Soh, portfolio manager at the $53 billion GAM, said in an e-mail. "While there is the risk that Cyprus does become a template, it's probably more that it was a good enough reason for people to take profits."

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